Financial accounting 9th kieso kimmel chapter 10

Learning ObjectivesAfter studying this chapter, you should be able to: [1] Explain a current liability, and identify the major types of current liabilities.. Current liabilities include

Preview of Chapter 1

Financial AccountingNinth Edition

Preview of Chapter 10

Financial Accounting

Ninth Edition Weygandt Kimmel Kieso

Learning Objectives

After studying this chapter, you should be able to:

[1] Explain a current liability, and identify the major types of current

liabilities.

[2] Describe the accounting for notes payable.

[3] Explain the accounting for other current liabilities.

[4] Explain why bonds are issued, and identify the types of bonds.

[5] Prepare the entries for the issuance of bonds and interest expense.

[6] Describe the entries when bonds are redeemed or converted.

[7] Describe the accounting for long-term notes payable.

A current liability is debt that a

 company expects to pay within one year or

 the operating cycle, whichever is longer

Current liabilities include notes payable, accounts payable, unearned revenues, and accrued liabilities such as taxes payable, salaries and

wages payable, and interest payable

Current Liabilities

LO 1

To be classified as a current liability, a debt must be expected

Learning Objectives

After studying this chapter, you should be able to:

[1] Explain a current liability, and identify the major types of current

liabilities.

[2] Describe the accounting for notes payable.

[3] Explain the accounting for other current liabilities.

[4] Explain why bonds are issued, and identify the types of bonds.

[5] Prepare the entries for the issuance of bonds and interest expense.

[6] Describe the entries when bonds are redeemed or converted.

[7] Describe the accounting for long-term notes payable.

[8] Identify the methods for the presentation and analysis of long-term

liabilities.

Notes Payable

 Written promissory note.

 Frequently issued to meet short-term financing needs.

 Requires the borrower to pay interest.

 Issued for varying periods.

Current Liabilities

Illustration: First National Bank agrees to lend $100,000 on

September 1, 2015, if Cole Williams Co signs a $100,000,

12%, four-month note maturing on January 1.

Instructions

a) Prepare the entry on September 1st.

b) Prepare the adjusting entry on December 31st, assuming

monthly adjusting entries have not been made

c) Prepare the entry required on January 1, 2016, the

maturity date

Current Liabilities

LO 2

Notes Payable 100,000

Interest Payable 4,000

b) Prepare the adjusting entry on December 31st

Illustration: First National Bank agrees to lend $100,000 on

September 1, 2015, if Cole Williams Co signs a $100,000,

12%, four-month note maturing on January 1.

a) Prepare the entry on September 1st.

Current Liabilities

Cash 104,000

Illustration: First National Bank agrees to lend $100,000 on

September 1, 2015, if Cole Williams Co signs a $100,000,

12%, four-month note maturing on January 1, 2016.

c) Prepare the entry at maturity.

Current Liabilities

LO 2

Learning Objectives

After studying this chapter, you should be able to:

[1] Explain a current liability, and identify the major types of current

liabilities.

[2] Describe the accounting for notes payable.

[3] Explain the accounting for other current liabilities.

[4] Explain why bonds are issued, and identify the types of bonds.

[5] Prepare the entries for the issuance of bonds and interest expense.

[6] Describe the entries when bonds are redeemed or converted.

[7] Describe the accounting for long-term notes payable.

Sales Taxes Payable

Current Liabilities

LO 3

 Sales taxes are expressed as a stated percentage of

the sales price

 Selling company (retailer)

► collects tax from the customer

► enters tax separately in cash register or includes in

total receipts

► remits the collections to the state’s department of

revenue

Illustration: The March 25 cash register reading for Cooley

Grocery shows sales of $10,000 and sales taxes of $600 (sales tax rate of 6%), the journal entry is:

Illustration: Cooley Grocery enters total receipts of $10,600

Because the amount received from the sale is equal to the

sales price 100% plus 6% of sales, (sales tax rate of 6%), the

journal entry is:

Sometimes companies do not enter sales taxes separately in

the cash register

* $10,600 ÷ 1.06 = $10,000

*

Sales Taxes Payable

LO 3

The term “payroll” pertains to both:

Salaries - managerial, administrative, and sales personnel

(monthly or yearly rate)

Wages - store clerks, factory employees, and manual

laborers (rate per hour)

Payroll and Payroll Taxes Payable

Determining the payroll involves computing three amounts:

(1) gross earnings, (2) payroll deductions, and (3) net

pay.

Accounting for Current Liabilities

Illustration: Assume Cargo Corporation records its payroll for the week of March 7 as follows:

Federal Income Taxes Payable21,864

FICA Taxes Payable7,650

State Income Taxes Payable2,922

Salaries and Wages Payable67,564

Record the payment of this payroll on March 7

Payroll and Payroll Taxes Payable

Payroll tax expense results from additional taxes that

governmental agencies levy on employers

These taxes are:

 Employer’s share of Social Security (FICA) taxes

 Federal unemployment taxes

 State unemployment taxes

LO 3

Payroll and Payroll Taxes Payable

Illustration: Based on Cargo Corp.’s $100,000 payroll,

the company would record the employer’s expense and liability

for these payroll taxes as follows

State Unemployment Taxes Payable800

FICA Taxes Payable7,650

Federal Unemployment Taxes Payable 5,400

Payroll and Payroll Taxes Payable

Employer payroll taxes do not include:

a Federal unemployment taxes.

b State unemployment taxes.

c Federal income taxes.

THE MISSING CONTROLS

Human resource controls Thorough background checks should be performed.

No employees should begin work until they have been approved by the Board of

Education and entered into the payroll system No employees should be entered

into the payroll system until they have been approved by a supervisor All paychecks

should be distributed directly to employees at the official school locations by designated

employees.

Independent internal verification Budgets should be reviewed monthly to identify

situations where actual costs significantly exceed budgeted amounts.

Total take: $150,000

ANATOMY OF A FRAUD

Art was a custodial supervisor for a large school district The district was supposed to

employ between 35 and 40 regular custodians, as well as 3 or 4 substitute custodians to fill in when regular custodians were absent Instead, in addition to the regular custodians, Art “hired” 77 substitutes In fact, almost none of these people worked for the district

Instead, Art submitted time cards for these people, collected their checks at the district

office, and personally distributed the checks to the “employees.” If a substitute’s check

was for $1,200, that person would cash the check, keep $200, and pay Art $1,000.

Illustration: Superior University sells 10,000 season football

tickets at $50 each for its five-game home schedule The entry for the sale of season tickets is:

Unearned Ticket Revenue 500,000

Illustration: Wendy Construction issues a five-year, interest-bearing

$25,000 note on January 1, 2014 This note specifies that each January 1,

starting January 1, 2015, Wendy should pay $5,000 of the note When the

company prepares financial statements on December 31, 2014,

1 What amount should be reported as a current liability? _

2 What amount should be reported as a long-term liability? _

Current Maturities of Long-Term Debt

 Portion of long-term debt that comes due in the current

Working capital is calculated as:

a current assets minus current liabilities.

b total assets minus total liabilities.

c long-term liabilities minus current liabilities.

d both (b) and (c).

Question

Statement Presentation and Analysis

LO 3

Liquidity refers to the

ability to pay maturing obligations and meet unexpected needs for

cash.

Current ratio permits us

to compare the liquidity

Learning Objectives

After studying this chapter, you should be able to:

[1] Explain a current liability, and identify the major types of current

liabilities.

[2] Describe the accounting for notes payable.

[3] Explain the accounting for other current liabilities.

[4] Explain why bonds are issued, and identify the types of bonds.

[5] Prepare the entries for the issuance of bonds and interest expense.

[6] Describe the entries when bonds are redeemed or converted.

[7] Describe the accounting for long-term notes payable.

[8] Identify the methods for the presentation and analysis of long-term

liabilities.

Long-term liabilities are obligations that are expected to be

paid after one year.

Bond Basics

Bonds are a form of interest-bearing notes payable.

Three advantages over common stock:

1 Stockholder control is not affected

2 Tax savings result

3 Return on common stockholders’

equity may be higher

Long-Term Liabilities

Helpful Hint

Besides corporations, governmental agencies and universities also issue bonds to raise capital.

Helpful Hint

Besides corporations, governmental agencies and universities also issue bonds to raise capital.

Effects on earnings per share—stocks vs bonds.

Illustration 10-8Bond Basics

LO 4

Major disadvantages resulting from the use of bonds are:

a that interest is not tax deductible and the principal

must be repaid

b that the principal is tax deductible and interest must be

paid

c that neither interest nor principal is tax deductible

d that interest must be paid and principal repaid.

Question

Bond Basics

Bond Basics

Types of Bonds

LO 4

 State laws grant corporations the power to issue bonds.

 Board of directors and stockholders must approve bond

issues.

 Board of directors must stipulate number of bonds to be

authorized, total face value , and contractual interest rate

 Bond terms set forth in legal document known as a bond

indenture

 Bond certificate , typically a $1,000 face value.

Bond Basics

Issuing Procedures

 Represents a promise to pay:

► sum of money at designated maturity date, plus

► periodic interest at a contractual (stated) rate on the

maturity amount (face value)

 Interest payments usually made semiannually

 Issued to obtain large amounts of long-term capital.

 Investment company sells the bonds for the issuing

company.

Bond Basics

LO 4

Issuing Procedures

Bond Basics

Bond Trading

Bond Basics

Bondholders can sell their bonds on national exchanges

 Bond prices are quoted as a percentage of the face value

 A quoted price of 97 means 97% of face value

LO 4

Illustration 10-10

Market information for bonds

Boeing Co. has outstanding 5.125%, $1,000 bonds that mature in 2014 They

currently yield a 5.747% return On this day, $33,965,000 of these bonds were

traded At the close of trading, the price was 96.595% of face value, or $965.95.

Determining the Market Value of a Bond

Bond Basics

Current market price (present value) is a function of the three

factors:

1 dollar amounts to be received,

2 length of time until the amounts are received, and

3 market rate of interest

The market interest rate is the rate investors demand for

loaning funds.

10-38 LO 4

Learning Objectives

After studying this chapter, you should be able to:

[1] Explain a current liability, and identify the major types of current

liabilities.

[2] Describe the accounting for notes payable.

[3] Explain the accounting for other current liabilities.

[4] Explain why bonds are issued, and identify the types of bonds.

[5] Prepare the entries for the issuance of bonds and interest expense.

[6] Describe the entries when bonds are redeemed or converted.

[7] Describe the accounting for long-term notes payable.

Corporation records bond transactions when it

 issues (sells),

 redeems (buys back) bonds, and

 when bondholders convert bonds into common stock

NOTE: If bondholders sell their bond investments to other investors,

the issuing company receives no further money on the transaction,

nor does the issuing company journalize the transaction.

Accounting for Bond Issues

LO 5

Issue at Face Value, Discount, or Premium?

Bond Contractual

Interest Rate 10%

Accounting for Bond Issues

Illustration 10-11

Interest rates and bond prices

The rate of interest investors demand for loaning funds to a

corporation is the:

a contractual interest rate

b face value rate

c market interest rate

d stated interest rate.

Question

LO 5

Accounting for Bond Issues

Karson Inc issues 10-year bonds with a maturity value of $200,000

If the bonds are issued at a premium, this indicates that:

a the contractual interest rate exceeds the market interest rate

b the market interest rate exceeds the contractual interest rate

c the contractual interest rate and the market interest rate are

Illustration: On January 1, 2015, Candlestick, Inc issues

$100,000, five-year, 10% bonds at 100 (100% of face value) The entry to record the sale is:

Bonds Payable100,000

Issuing Bonds at Face Value

LO 5

Accounting for Bond Issues

Illustration: On January 1, 2015, Candlestick, Inc issues

$100,000, five-year, 10% bonds at 100 (100% of face value)

Assume that interest is payable semiannually on January 1 and

July 1 Prepare the entry to record the payment of interest on July

1, 2015, assume no previous accrual

Cash5,000

Accounting for Bond Issues

Illustration: On January 1, 2015, Candlestick, Inc issues

$100,000, five-year, 10% bonds at 100 (100% of face value)

Assume that interest is payable semiannually on January 1 and

July 1 Prepare the entry to record the accrual of interest on

December 31, 2015, assume no previous accrual

Interest Payable5,000

LO 5

Accounting for Bond Issues

Illustration: On January 1, 2015, Candlestick,

Inc sells $100,000, five-year, 10% bonds for

$92,639 (92.639% of face value) Interest is

payable on July 1 and January 1 The entry to

record the issuance is:

Bonds Payable100,000

Issuing Bonds at a Discount

Accounting for Bond Issues

Sale of bonds below face value (discount) =

total cost of borrowing > interest paid

Reason: Borrower is required to pay the bond discount at the maturity

date Therefore, the bond discount is considered to be a increase in

the cost of borrowing.

Statement presentation of discount on bonds payable

Carrying value or book value

LO 5

Issuing Bonds at a Discount

Total Cost of Borrowing

Discount on Bonds Payable:

a has a credit balance

b is a contra account

c is added to bonds payable on the balance sheet

d increases over the term of the bonds.

Question

LO 5

Issuing Bonds at a Discount

Jan 1 Cash 108,111

Bonds Payable100,000

Premium on Bonds Payable

Illustration: On January 1, 2015, Candlestick,

Inc sells $100,000, five-year, 10% bonds for

$108,111 (108.111% of face value) Interest is

payable on July 1 and January 1 The entry to

record the issuance is:

Issuing Bonds at a Premium

Accounting for Bond Issues

Sale of bonds above face value (premium) =

total cost of borrowing < interest paid

Reason: Borrower is not required to pay the bond premium at the

maturity date of the bonds Therefore, the bond premium is

considered to be a reduction in the cost of borrowing.

LO 5

Statement presentation of discount on bonds payable

Issuing Bonds at a Premium